Cash in hand

Emerging-markets investors eye contrarian countries, sectors

LOS ANGELES (CBS.MW) -- Despite caution on the region, many institutional investors in global emerging markets (GEM) appear to be gearing up to funnel cash back into those markets.

That's according to a recent survey by Merrill Lynch that finds GEM investors are planning to pour money into South Africa, Russia, Turkey and Brazil over the next three months, pulling cash out of China, Korea, Argentina, Chile and Mexico.

Robert Berges, director of Latin American Strategy for Merrill Lynch, said that he doesn't necessarily think GEM investors are turning more optimistic over emerging markets, but instead are eyeing more tactical, short term moves.

"We suspect typically what happens when the Fed raises rates is that you get a sell-off at the very beginning, but then you get a rebound four to six months later," said Berges. "In emerging markets, people may be thinking that we've already anticipated the Fed moves and they want to reposition to slightly more aggressive positions."

The anticipation of Fed hikes is one reason emerging markets have fallen out of vogue, as rising U.S. rates siphon liquidity from those regions and make those stocks and bonds less attractive than U.S. securities. Concern about economic overheating in China is also weighing on investors.

"In general, people believe that the best days for GEM asset classes are behind us, but that you can make some money over the next few months," said Berges, who added that his team believes global growth has already peaked and now's the time to turn more conservative.

Still, as the Merrill Lynch survey pointed out "investors continue to believe GEM equities offer the best upside potential over the next 12 months" versus eight other asset classes.

Unlikely destinations and sectors

GEM investors' sector picks may explain some contrarian country moves. The survey reported they're more bullish on telecoms, consumer staples, materials and financials.

Russia is harder to explain as troubles for oil group
YUKOY
are definitely creating a wave of nervousness among investors. Merrill Lynch warns that if a similar event takes place in coming months regarding another Russian corporation, it would be a key "negative surprise for those markets."

Increasing Russia and Brazil exposure while reducing Chile and Mexico are definitely contrarian moves, said Berges. He said investors may be trying to reduce exposure to places such as Mexico, a move he disagrees with.

"We think that we've already seen a deceleration in global growth ahead of the first Fed move. If anything, you should take any opportunity of a short-term rally to turn more defensive adding countries like Mexico rather than to reduce it," he said.

Berges says he likes Chile and would be slightly overweigh Korea, two areas in which GEM investors are expected to reduce funds. China is another. Berges said Merrill's strategists see a hard landing for China's equities and commodities, even if the economy can engineer a soft landing, making the country "an important wild card' for investors in the coming year.

Call again

Another key strategy the survey revealed, and which came as a surprise to Merrill, is GEM investor bullishness over telecoms, with 65 percent reporting overweight positions. Some 82 percent expect to add telecoms in the next one to three months, stating it has the most upside potential.

"Telecoms are high-beta plays. I think in most regions that if you want to add beta to your portfolio, it's a good sector to add. Technology, for example, is available to only a few countries and emerging-markets telecoms is the proxy for high beta," said Berges.

Beta is a measure of risk compared to the return of the S&P 500; the higher the beta, the riskier the investment is deemed.

Berges said Merrill likes selected telecoms, but believes they're much more risky. He cautions against making a sweeping generalization of the sector: Merrill likes Compania Anonima Nacional Telefonos de Venezuela
VNT, -3.25%
in Venezuela because it has a huge cash flow and, out of Mexico, Telefonos de Mexico
TMX, +0.46%

Energy stocks are one area that GEM investors will be shying away from in the coming months, according to the survey. Berges said Merrill analysts don't like global energy in general, but do like Brazil's Petrobas
PBR, -0.55%
one of the very cheapest emerging market oil groups.

Overall, Berges said following the herd on countries and sectors may not be a good idea. If investors are moving out of regions such as Mexico and Korea, those could be the very areas to be heading towards.

"The most popular trades tend to be contrarian moves. That has worked very well. Do exactly the opposite as to what people are expecting. That's much better than going with the flow," said Berges.

Intraday Data provided by SIX Financial Information and subject to terms of use. Historical and current end-of-day data provided by SIX Financial Information. All quotes are in local exchange time. Real-time last sale data for U.S. stock quotes reflect trades reported through Nasdaq only. Intraday data delayed at least 15 minutes or per exchange requirements.